A guide to inventory management for small businesses

In this inventory management guide, we’ll share what it entails and why it’s important, along with techniques, best practices, and strategies for success. Plus, read on to the end for answers to the most frequently asked questions.

What is inventory management?

Inventory management is the process of tracking and optimizing product orders, storage, and sales. The goal is to have enough products to meet customer demand but not so much that you pay to store stock that's not selling.

Here, inventory encompasses all the goods a company holds for production or sale. These can include raw materials, work-in-progress items, finished goods ready to be shipped, and even replacement parts.

Inventory is considered a valuable asset on your balance sheet, representing the potential for future revenue when sold. Think of it like this:

• Inventory = stored value. Every item in your inventory has a monetary value tied to it. When managed well, it's like money sitting on shelves, waiting to be converted into sales.
• Inventory = current asset. Because inventory is expected to be sold relatively quickly (usually within a year), it's classified as a current asset on your balance sheet.

Why is inventory management important?

Inventory management is important because it helps you avoid running out of stock at inopportune moments (such as on Black Friday) and miss out on valuable revenue opportunities. It also helps you keep accurate, up-to-date inventory records for business planning and tax purposes.

For example, if one of your products keeps selling out quickly, effective inventory management techniques can help you increase your orders at the right time and ensure you have enough supply to meet customer demand.

Conversely, if you have excess stock, you risk overpaying for products that won't sell. This can lead to costly write-downs where you reduce the value of your inventory on your balance sheet. Depending on where that stock is stored, those products can also be left vulnerable to theft, damage, or even obsolescence.

What are the benefits of good inventory management?

Effective inventory management isn't just about knowing what's on your shelves; it directly impacts your bottom line and long-term success. Here are some top inventory management benefits:

• Healthy cash flow. Inventory ties up your capital. Good inventory management ensures you're not overinvesting in stock that isn't moving. By maintaining optimal levels, you free up resources for other business priorities, avoid cash flow problems, and reduce the need for costly loans or credit lines.
• Enhanced customer experience. Having the right products in stock when customers want them is key to a positive shopping experience. Consistent availability leads to satisfied customers who are more likely to become loyal fans. On the flip side, frequent stockouts can drive shoppers away and hurt your brand reputation.
• Reduced business costs. Inventory management is about more than just the cost of goods. It impacts a range of operating costs related to storage, insurance, and labor.
• Improved planning and forecasting. A well-organized inventory system provides the data you need to accurately forecast sales trends. By analyzing past sales patterns, seasonal fluctuations, and market trends, you can anticipate demand and make informed decisions about purchasing and production.

Inventory management process: 6 key steps

The inventory management process is spread across these key stages:

• Orders. You decide how much of each product to purchase and place orders with your vendors.
• Delivery. When the inventory arrives at your business or storage facility, it goes through inspection and sorting processes.
• Storage. Inventory is safely stored until needed for in-store stocking or fulfilling online orders. It may also be insured against damage and theft.
• Purchases. Customers purchase products, triggering shipments and reducing inventory. Businesses can use their point-of-sale system to automatically update inventory once a customer makes a purchase.
• Returns. Track and fulfill return requests, updating inventory accordingly.
• Repeat. Order new inventory again based on customer demand.

Businesses use inventory tracking to monitor stock levels in real-time throughout each of these stages. With this information, they can pinpoint purchase trends, address any snags in the supply chain, and forecast their needs for future sales.

Inventory management techniques

Wondering how to keep track of inventory? The first step is understanding the different types of inventory management techniques. Ultimately, your chosen method will depend on the type of business you operate.

Inventory management best practices and strategies

There is no single best way to manage inventory. However, there are plenty of strategies that can help streamline processes and improve results.

To start, try these inventory management tips:

• Use an inventory management software. Automate your inventory management process to increase efficiency and save time.
• Keep accurate stock records. Update your inventory data in real-time based on new orders, deliveries, purchases, and returns.
• Track your inventory with SKUs. Create a Stock Keeping Unit (SKU) for each product to easily track inventory. A SKU is a unique, alphanumeric code that can be scanned and entered into your inventory management system.
• Forecast costs with the right tools. Use business reporting tools to identify sales patterns and predict future expenses so you can plan ahead of time.

What is inventory control?

Inventory control is the process of managing the stock that a business has on hand, such as in its warehouse. A business might use inventory control methods to store certain products in different locations within the warehouse and monitor their condition.

Comparatively, inventory management covers the entire inventory lifecycle – from forecasting and ordering products to making sales and reorders.

Small businesses can use both inventory management and inventory control techniques to streamline costs and meet customers with their favorite products at the right times.

What is an inventory management system?

An inventory management system (IMS) is a tool or set of tools designed to streamline and automate the process of tracking and managing inventory. It helps businesses maintain optimal stock levels, track goods throughout the supply chain, and gain valuable insights into sales trends and inventory performance.

There are three main types of inventory management systems: manual, perpetual, and periodic.

Manual inventory system

A manual inventory system involves physically counting and recording inventory levels by hand. This method is typically used by small businesses with limited inventory or low budgets.

While it's a simple and inexpensive approach, it can be time-consuming, prone to errors, and may not provide real-time visibility into stock levels.

Perpetual inventory system

A perpetual inventory system continuously tracks inventory levels in real-time using technology like barcode scanners, RFID tags, or inventory management software. This provides businesses with up-to-the-minute data on stock levels, sales, and reorder points.

Perpetual inventory systems are more accurate and efficient than manual methods but require an initial investment in technology and software.

Periodic inventory system

A periodic inventory system updates inventory levels at specific intervals, such as weekly, monthly, or annually. This usually involves physically counting inventory and reconciling it with sales and purchase records.

While periodic systems are less expensive than perpetual systems, they can be less accurate and don't offer real-time visibility into stock levels. However, they may be suitable for small businesses with limited resources or seasonal inventory fluctuations.

Important considerations when optimizing inventory management

Efficient inventory management is a hallmark of a successful small business. By understanding your inventory as a dynamic asset, implementing the right tracking system, and choosing a management strategy that aligns with your business model, you can reap the benefits of improved cash flow, enhanced customer satisfaction, and reduced costs.

In the early stages of optimizing inventory management, focus on establishing accurate tracking methods, whether through manual counts or a simple software solution. Begin analyzing sales trends to forecast demand and build strong relationships with reliable suppliers.

Remember: effective inventory management isn’t a set-and-forget task; instead, it’s an ongoing process that requires consistent attention and adaptation as you run your business. By investing time and resources into optimizing your inventory practices, you'll be well on your way to a more efficient, profitable, and customer-centric company.